Every taxing authority requires taxes to be prepaid. The only exceptions are for amounts due that are below the threshold for making prepayments.
- You owe less than $1,000.
- Your withholding and estimated taxes paid were at least 90 percent of the current year tax liability, or 100 percent of the prior year liability, whichever is smaller.
There are two ways to prepay income tax. For employees, income taxes are withheld and remitted by their employers with every paycheck. For all others, income taxes must be prepaid with quarterly estimated tax payments. The alternative to prepaying income tax is penalties and interest.
Quarterly estimated tax payments need to be made by anyone who does not have sufficient tax withheld from their income. Even salaried individuals who don’t have enough income tax withheld from their paychecks are required to make up the difference with quarterly estimated tax payments.
Quarterly estimated tax payments are most typical for the self-employed. But other income sources might require estimated payments, including:
- Substantial investment income
- Significant retirement income
- Sale of a significant asset (e.g., sale of rental property)
- Alimony income
- Income distributions from a partnership or Subchapter S Corporation
Quarterly estimated tax payments are due four times each year. The payments are due as follows:
- April 15 – for January, February, and March.
- June 15 – for April and May.
- September 15 – for June, July, and August.
- January 15 of the following year – for September, October, November, and December.
There are two methods for determining how much is due in quarterly installments. The simple (safe harbor) method is to take the prior year’s tax liability, add 10 percent, subtract that year’s tax withholdings, then divide the difference by four.
For example, let’s say in 2018 your federal tax liability was $8,000 and federal tax withheld was $2,000. Adding 10 percent to your tax liability equals $8,800. Subtracting the $2,000 withheld equals $6,800. One-quarter of that amount, $1,700, was due each quarter in 2019. If those payments were not made, the IRS will assess a penalty and interest. Most states, including Oregon, use the same method to determine how much you need to prepay each quarter for that year. While this method is easy to calculate, it may result in making a large payment for a quarter where little or no taxable income was received.
There is a second method. While it may be more precise, it is much more complicated and time-consuming. All tax authorities allow you to calculate each quarterly payment based on the amount of taxable income received in the associated quarter. That means a precise accounting of taxable income and deductions and an income tax projection must be prepared for each quarter. This method is intended for large businesses or wealthy individuals who have taxable income that varies significantly from quarter to quarter. This method allows them to calculate and pay no more than what is due for each particular quarterly.